Opaque trading, Disclosure, and asset prices: Implications for hedge fund regulation

We investigate the effect of ambiguity about hedge fund investment strategies on asset prices and aggregate welfare. We model some traders (mutual funds) as facing ambiguity about the equilibrium trading strategies of other traders (hedge funds). This ambiguity limits the ability of mutual funds to infer information from prices and has negative effects on market outcomes. We use this analysis to investigate the implications of regulations that affect disclosure requirements of hedge funds or the cost of operating a hedge fund. Our analysis demonstrates how regulations affect asset prices and welfare through their influence on opaque trading. © 2013 The Author 2013. Published by Oxford University Press on behalf of The Society for Financial Studies. All rights reserved. For Permissions, please e-mail: journals.permissions@oup.com